Ukraine's central bank cuts key policy rate to 12.5%

By bne IntelliNews May 25, 2017

The National Bank of Ukraine (NBU) will cut its key policy rate by 0.5 percentage points to 12.5% per annum from May 26. The move is consistent with the pursuit of inflation targets set for 2017-2018 and will help propel the economic growth in Ukraine, the regulator said in a statement published on May 25.

The central bank last month cut its key policy rate by 1 pp to 13% per annum. The move followed the NBU’s decision in early March to leave its key policy rate unchanged at 14% per annum in order to mitigate risks for inflation targets in 2017-2018.

Ukraine’s domestic currency, the hryvnia, continued to appreciate against the US dollar in April, underpinned by substantial FX revenues from agricultural exports, the regulator underlined.

“Also, Ukraine continued to enjoy significant FX revenues from metallurgical exports despite the negative effect of the halted freight traffic across the contact line in Donetsk and Luhansk regions and the seizure of enterprises in the non-government controlled areas of Ukraine,” the statement reads.

Meanwhile, households continued to actively sell foreign currency in the cash FX market, with banks’ net FX purchases having reached $982mn since the start of the year. This allowed banks to maintain the foreign exchange supply in the interbank FX market, the NBU said.

“The NBU, remaining committed to a flexible exchange regime, did not counteract a gradual appreciation of the hryvnia but  has been purchasing an excess supply of foreign currency in the interbank market to replenish international reserves,” the central bank added. “Overall, the NBU’s net FX purchases have reached over $1bn since the beginning of the year.”

The stable situation in the FX market had brought about an improvement in inflation expectations. As a result, core inflation remained flat at 6.3% in April, while the NBU had projected it to accelerate slightly.

The NBU believes that the inflation targets for 2017 and 2018 (8%+/-2 pp and 6%+/-2 pp, respectively) “remain within reach”.

Meanwhile, a major risk for the achievement of inflation targets for 2017-2018 arises from a departure from the prudent fiscal policy. “In particular, there is a risk that the government will raise social standards to a level higher than that consistent with the meeting of inflation targets,” the statement said

The NBU considers the implementation of a pension reform to be a vital step to ensure sustainable public finances and hence price stability in a long-term perspective. However, over the short-term, a hike in pension payments can push consumer demand up. Consequently, the NBU may be required to adjust its policy to level off short-term repercussions of such an increase on price dynamics, it noted.

In January-March, Ukraine’s real GDP rose by 2.4% year-on-year. The slower pace of GDP growth compared with the end of 2016 can be attributed to the halted freight traffic across the contact line in Donetsk and Luhansk regions and the seizure of enterprises in the rebel-held areas of Donbas. 

“These developments brought about a decline in industrial production and adversely affected the wholesale trade and freight transportation performance,” the NBU’s statement reads.

On March 15, a day after an abortive attempt by law enforcers to break up the unofficial blockade, the Ukrainian leadership imposed an official trade blockade on Donbas. President Petro Poroshenko instructed the National Security and Defence Council (NSDC) to suspend transport communications with rebel-held areas.

In April, the NBU confirmed its revised 2017 GDP forecast from 2.8% to 1.9% growth. This downward revision resulted from expectations that braking trade in the east and the loss of production facilities located in the rebel-controlled areas will decrease the output of some industries.

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